Financial Modelling: An imperative sound for decision making

What is Financial Modelling? Financial modeling is the task of building an abstract representation of a financial decision making situation. This is a mathematical model, such as a computer simulation, designed to represent the performance of a financial asset or a portfolio, of a business, a project, or any other form of financial investment. Theoretically speaking, a financial model is a set of assumptions about future business conditions that drive projections of a companys revenue, earnings, cash flows and balance sheet accounts. However, financial modeling is a general term that means different things to different users. In the US and particularly in business schools it means the development of a mathematical model, often using complex algorithms, and the associated computer implementation to simulate scenarios of financial events, such as asset prices, market movements, portfolio returns and the like. Or it might mean the development of optimization models for managing and controlling the risk of a financial investment. In Europe and in the accounting profession financial modelling is defined as cash flow forecasting, involving the preparation of large, detailed spreadsheets for management decision making purposes. What is the Objective of Financial Modelling? The objective of a financial model is to position clients for success in their foreign investments. Whats the cost of doing business in a given country? Whats the breakeven point? When might you exceed the profitability of a similar operation in the United States? The importance of financial modelling cannot be overstated. and financial models often are a key element in most major business decisions. For instance, a financial model is prepared whenever any organization is considering project finance, bidding for a project, evaluating acquisition target, carrying out monthly financial planning, conducting capital structure studies, etc. The proponents of the model must first undertake a qualitative review - i.e. determine whether the story underpinning the model makes sense. There needs to be a logic behind the adoption of the model and a compelling case that it will be supported by its intended target audience. This useful tool also allows business options and risks to be evaluated in a cost-effective manner against a range of assumptions, identify optimal solutions in evaluating financial returns and understand the impact of resource constraints to make the most effective business decisions. What is the characteristics of a sound Financial Model? A good financial model is: (a) Easy to understand - uses a transparent design; (b) Reliable - uses control checks so that an error is automatically flashed; (c) Easy to use - so that one can be more productive in using the model for analysis rather than struggling just to produce simple results from a badly designed model; (d) Focussed on the key issues - so that one does not waste too much time in development of immaterial items; Related posts: 1. Risk Management from Project Managers Perspective Risk Management from Project Manager's Perspective... 2. GARP confers Risk Management award to Chinese Banking Regulators GARP confers award to Chinese Banking Regulators... 3. Lehman Bros fancy accounting Lehman Bros fancy accounting... 4. Magic behind Financial Projections in a Startup This is the article by Amit Grover, Founder, Nurture Talent... 5. Greeks and Goldman Sachs Greeks and Goldman Sachs...

Basic Project Portfolio Manager Functions

Pipeline Management and the Project Portfolio Manager It is not only in-flight and pending approval projects that should be visible to an enterprise project office. A project office should also have line of forward sight to possible projects and those that are yet to commence. The term for this is the pipeline. Pipeline management is generally another responsibility of the Project Portfolio Manager. Some of the key pipeline management activities, to be undertaken by the Project Portfolio Manager are as follows: * Liaison with all areas of the enterprise to remain informed of initiatives that they are proposing to progress in the coming 1 to 3 years * Ongoing liaison with areas of the enterprise to ensure previously flagged initiatives are still on track to progress * Maintenance of a pipeline view to ensure appropriate long term resource management activities are undertaken (e.g. Recruitment of appropriately skilled staff) * Communicating the pipeline view to all relevant areas of the enterprise Project Portfolio Resource Coordination Increasingly, project resource supply and demand management is the responsibility of the Project Portfolio Manager. The fundamental theory behind this is that as the Project Portfolio Manager has a clear pipeline view and the best understanding of project portfolio priorities then they are best placed to make decisions about the allocation of project resources. Resource groups that the Project Portfolio Manager may be responsible for coordinating supply and demand for could include, but not be limited to, the following: * Project Managers and other administrative project staff * Software development resources * Business Analysts * Testing resources and environments Organisation Risk Management via Project Portfolio Management A key function of project portfolio management is the responsibility for identifying, reporting and mitigating as far as possible any risks that affect the project portfolio as a whole. Portfolio level risk reporting should form an integral part of the organisations risk management practices. The risk register used for this purpose may be very similar in layout and function to that which would be used by an individual project as part of the project risk management framework. Portfolio Dependency Management Project portfolio management has an important role to play with respect to identifying and managing portfolio-level dependencies. Portfolio-level dependencies are those project dependencies related to the portfolio as a whole, which could potentially impact multiple in-flight projects across the enterprise portfolio. For example, if three development projects all require the skills of a single team of programmers then completion of Project A and Project B might be dependant on the completion of work for Project C. With multiple projects linked by this dependency, the dependency itself should be identified, documented and managed at the portfolio level. Provision of Management Information by Project Portfolio Managers Provision of project-related reporting, on an aggregated basis, is traditionally the responsibility of an enterprise project office. Some of this reporting is the responsibility of the Project Portfolio Manager. Although the reporting provided through the project portfolio management process may vary as a function of organisation size, maturity, complexity and nature of business, there remains some general reporting areas that should be developed as part of this function. Some such areas are: * Pipeline status (e.g. Number of pending projects, projects in-flight) * Current work in progress broken down into areas such as resource requirements and capital spent against proposed project budget) * Resource utilisation (i.e. supply and demand tables and charts) * Project portfolio composition in terms of project types, enterprise strategy alignment and size of capital investment What does Project Portfolio Management Deliver the Organisation? With the fundamentals of PPM established, the question remaining is, what does effective project portfolio management provide an organisation. Varying benefits are postulated by numerous theories and specific approaches to PPM, but the common benefits of a PPM approach to enterprise project management and coordination are, at minimum, the following: * An optimised project portfolio which delivers projects aligned with organisation strategy * Ability to more closely govern and guide projects across the enterprise * Transparency and better management of organisational risk born of projects across the organisation * Optimal resource utilisation and reduced resourcing costs on a per-unit-delivered basis * Improved project risk management through the identification and management of portfolio-level risks * Greater forward planning through pipeline view management In summation, Project portfolio management is essentially a simple collection of fundamentals, aimed at improving the management and coordination of projects, project resources, organisation capital and risk. As with other enterprise project management approaches, there are a myriad of variations on the theme. Regardless, the basics of project portfolio management remain unchanged.

What is Margin, Margin Call, Margin Requirements …

What is Margin?
Margin is essentially the difference between a product’s selling price and the cost of production.

A margin is a collateral that the holder of a position in securities, options, or futures contracts has to deposit to cover the credit risk of his counterparty (most often his broker). This risk can arise if the holder has done any of the following:

* borrowed cash from the counterparty to buy securities or options,
* sold securities or options short, or
* entered into a futures contract.

Margin buying
Margin buying is buying securities with cash borrowed from a broker, using other securities as collateral. This has the effect of magnifying any profit or loss made on the securities. The securities serve as collateral for the loan. The net value, i.e. the difference between the value of the securities and the loan, is initially equal to the amount of one’s own cash used. This difference has to stay above a minimum margin requirement, the purpose of which is to protect the broker against a fall in the value of the securities to the point that the investor can no longer cover the loan.

In the 1920s, margin requirements were loose. In other words, brokers required investors to put in very little of their own money. Whereas today, the Federal Reserve’s margin requirement limits debt to 50 percent, during the 1920s leverage rates of up to 90 percent debt were not uncommon.[1] When the stock market started to contract, many individuals received margin calls. They had to deliver more money to their brokers or their shares would be sold. Since many individuals did not have the equity to cover their margin positions, their shares were sold, causing further market declines and further margin calls. This was one of the major contributing factors which led to the Stock Market Crash of 1929, which in turn contributed to the Great Depression [1], a troubling financial time in the 1930s.

Illustration:
Assume that the initial margin required to buy or sell a particular commodity contract is $1,000 and the maintenance margin requirement is $750. Should losses on open positions reduce the funds in your trading account $700, you would receive a margin call for the $300 needed to restore your account back to the initial $1,000. If there were not excess funds in the account in order to bring the initial amount back up to $1,000, that position would create a margin call, a situation in which the account would need to be either immediately met with additional funds or the position liquidated to cover the margin call.

Types of margin requirements

Current liquidating margin

The current liquidating margin is the value of a securities position if the position were liquidated now. In other words, if the holder has a short position, this is the money needed to buy back; if he is long, it is the money he can raise by selling it.

Variation margin

The variation margin or maintenance margin is not collateral, but a daily offsetting of profits and losses. Futures are marked-to-market every day, so the current price is compared to the previous day’s price. The profit or loss on the day of a position is then paid to or debited from the holder by the futures exchange. This is possible, because the exchange is the central counterparty to all contracts, and the number of long contracts equals the number of short contracts. Certain other exchange traded derivatives, such as options on futures contracts, are marked-to-market in the same way.

Premium margin

The seller of an option has the obligation to deliver the underlying of the option if it is exercised. To ensure he can fulfil this obligation, he has to deposit collateral. This premium margin is equal to the premium that he would need to pay to buy back the option and close out his position.

Additional margin

Additional margin is intended to cover a potential fall in the value of the position on the following trading day. This is calculated as the potential loss in a worst-case scenario.

Margin call
When the margin posted in the margin account is below the minimum margin requirement, the broker or exchange issues a margin call. The investor now either has to increase the margin that they have deposited, or they can close out their position. They can do this by selling the securities, options or futures if they are long and by buying them back if they are short. If they don’t do any of this the broker can sell his securities to meet the margin call.

Return on margin
Return on margin (ROM) is often used to judge performance because it represents the net gain or net loss compared to the exchange’s perceived risk as reflected in required margin. ROM may be calculated (realized return) / (initial margin). The annualized ROM is equal to

(ROM + 1)(year/trade_duration) - 1

For example if a trader earns 10% on margin in two months, that would be about 77% annualized

(ROM +1)1/6 - 1 = 0.1 thus ROM = 1.16 - 1

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Black Swans

What Does Black Swan Mean?
A Black Swan is an event or occurrence that varies from what is generally expected of a situation and which is be extremely difficult to predict.

Black Swan Events were described by Nassim Nicholas Taleb in his 2007 book, The Black Swan. He is a finance professor and former Wall Street trader.

He used “The Black Swan Theory” to explain the existence and occurrence of high-impact, hard-to-predict, and rare events that are beyond the realm of normal expectations.

Characteristics of a Black Swan Event

1. The event is a surprise (to the observer).
2. The event has a major impact.
3. After the fact, the event is rationalized by hindsight, as if it had been expected.

Ten Principles for a Black Swan Robust World

Taleb enumerates ten principles for building systems that are robust to Black Swan Events:

1. What is fragile should break early while it is still small. Nothing should ever become too big to fail.
Nothing should ever become too big to fail. Evolution in economic life helps those with the maximum amount of hidden risks and hence the most fragile become the biggest.

2. No socialisation of losses and privatisation of gains.
Whatever may need to be bailed out should be nationalised; whatever does not need a bail-out should be free, small and risk-bearing. We have managed to combine the worst of capitalism and socialism.

3. People who were driving a school bus blindfolded (and crashed it) should never be given a new bus.
The economics establishment (universities, regulators, central bankers, government officials, various organisations staffed with economists) lost its legitimacy with the failure of the system. It is irresponsible and foolish to put our trust in the ability of such experts to get us out of this mess. Instead, find the smart people whose hands are clean.

4. Do not let someone making an “incentive” bonus manage a nuclear plant or your financial risks.
Odds are he would cut every corner on safety to show “profits” while claiming to be “conservative”. Bonuses do not accommodate the hidden risks of blow-ups. It is the asymmetry of the bonus system that got us here. No incentives without disincentives: capitalism is about rewards and punishments, not just rewards.

5. Counter-balance complexity with simplicity.
Complexity from globalisation and highly networked economic life needs to be countered by simplicity in financial products. The complex economy is already a form of leverage: the leverage of efficiency. Such systems survive thanks to slack and redundancy; adding debt produces wild and dangerous gyrations and leaves no room for error. Capitalism cannot avoid fads and bubbles: equity bubbles (as in 2000) have proved to be mild; debt bubbles are vicious.

6. Do not give children sticks of dynamite, even if they come with a warning.
Complex derivatives need to be banned because nobody understands them and few are rational enough to know it. Citizens must be protected from themselves, from bankers selling them “hedging” products, and from gullible regulators who listen to economic theorists.

7. Only Ponzi schemes should depend on confidence. Governments should never need to “restore confidence”.
Cascading rumours are a product of complex systems. Governments cannot stop the rumours. Simply, we need to be in a position to shrug off rumours, be robust in the face of them.

8. Do not give an addict more drugs if he has withdrawal pains.
Using leverage to cure the problems of too much leverage is not homeopathy, it is denial. The debt crisis is not a temporary problem, it is a structural one. We need rehab.

9. Citizens should not depend on financial assets or fallible “expert” advice for their retirement.
Economic life should be definancialised. We should learn not to use markets as storehouses of value: they do not harbour the certainties that normal citizens require. Citizens should experience anxiety about their own businesses (which they control), not their investments (which they do not control).

10. Make an omelette with the broken eggs.
Finally, this crisis cannot be fixed with makeshift repairs, no more than a boat with a rotten hull can be fixed with ad-hoc patches. We need to rebuild the hull with new (stronger) materials; we will have to remake the system before it does so itself.

You can read more about Nassim Nicholas Taleb here.

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Lehman Bros’ fancy accounting

There has been much furore in financial sphere over the recent revelation of misleading accounting techniques used by Lehman Bros.
An accounting trick, known as the Repo 105 aided financial relief to Lehman Brothers just before its supernova collapse. It now seems that the shenanigans spells used by them may cast a legal jeopardy for executives of Lehman and its auditors Ernst & Young.

The implosion of Lehman Brothers Holdings Inc. into the biggest bankruptcy in U.S. history in September 2008 led the financial meltdown that plunged the economy into the most severe recession since the 1930s, which now thankfully shows some signs of recovery.

How did they do it ?
After puffing itself with billions of troubled assets that couldn’t easily be sold, Lehman camouflaged its debt and financial condition by using the accounting gimmick, the examiner appointed by the bankruptcy court revealed in a 2,200-page report on a yearlong investigation.

The report also unveiled that Lehman put together complex transactions that allowed the firm to sell “toxic,” securities at the end of a quarter wiping them off its balance sheet when regulators and shareholders were examining it and then to quickly buy them back.
The “Repo” here means repurchase.

Now, Repo 105 has entered the list of names of vehicles for accounting tweaks, along with others like Raptor partnerships etc.
In the sagas of those two companies, the role of the accounting firms was central.

Here are some of the accounting scandals that came to light in recent years:

(a) AIG - Accounting of structured financial deals
(b) Bernard L. Madoff Investment Securities - Ponzi scheme run by Bernard Madoff. David G. Friehling was charged with securities fraud, aiding and abetting investment adviser fraud, and four counts of filing false audit reports with the Securities and Exchange Commission in regards to this Ponzi scheme. He faces up to 105 years in prison on all of the charges.[33]
(c) Anglo Irish Bank - hidden loans controversy
(d) Satyam Computers - Falsified accounts

In the meltdown’s wake, Justice and the SEC launched wide-ranging investigations of companies across the financial services industry, believed to include insurer American International Group Inc. and mortgage giants Fannie Mae and Freddie Mac as well as Lehman. A year and a half after the financial crisis struck, charges haven’t yet come in most of the probes.

The Report doesn’t reach a conclusion on whether executives violated securities laws. It does say that the executives’ decision not to disclose the effects of its business judgments “does give rise to
colorable claims against the senior officers who oversaw and certified misleading financial statements.”

Colorable claims here implies that there appears to be sufficient evidence to support the awarding of civil damages in a trial.

The report says there also are colorable claims against the outside auditors, Ernst & Young, for “its failure to question and challenge improper or inadequate disclosures” in Lehman’s financial statements.

However, EnY said: “We never concluded our review of the matter, because Lehman went into bankruptcy before we completed our audit.”

These incidents certainly reiterate the value of accounting ethics, which have, in recent years gained currency due to the diverse range of accounting services and recent corporate collapses, attention has been drawn to ethical standards accepted within the accounting profession.

Read a related interesting article : Why Lehman Bros went bust; what it means for you

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Yield Spread

What is Yield ?

The term yield indicates the amount in cash that the owners of a security will get.

What is Yield spread ?
Yield spread is the difference between the quoted rates of return on two different investments, usually of different credit quality.

The “yield spread of X over Y” is simply the percentage return on investment (ROI) from financial instrument X minus the percentage return on investment from financial instrument Y (per annum).It is an indication of the risk premium for investing in one investment product over another.
The higher the yield spread, the greater the difference between the yields offered by each instrument.

Implications:
When spreads widen between bonds with different quality ratings it implies that the market is factoring more risk of default on lower grade bonds. For example, if a risk free 10 year Treasury note is currently yielding 5% while junk bonds with the same duration are averaging 7%, the spread between Treasuries and junk bonds is 2%.
If that spread widens to 4% (increasing the junk bond yield to 9%), the market is forecasting a greater risk of default which implies a slowing economy. A narrowing of spreads (between bonds of different risk ratings) implies that the market is factoring in less risk.

There are several measures of yield spread, including Z-spread and option-adjusted spread.

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CFA Exam Pattern - Updates

If you plan to appear for the CFA exam June 6, 2010, here are some important things you must know as you chalk out your plan, gather study resources and get on with it:
(a) The curriculum for CFA exam has changed
(b) CFAI has introduced some modification regarding the Exam style and formatting convention
(c) Accounting rules and the financial environment have changed and
(d) CFA-2009 exam onwards, the MCQs will have three answer choices instead of four
The curriculum changes each year to meet the dynamic nature and complexity of the global investment profession. CFA Institute, through the oversight of the Educational Advisory Committee (EAC),
regularly conducts a practice analysis survey of investment professionals around the world to determine the knowledge, skills, and competencies that are relevant to the profession. The results of the practice analysis define the Global Body of Investment Knowledge (GBIK) and the CFA Program Candidate Body of Knowledge
(CBOK).
The last change with respect to number answer choices could have significant impact on the way the candidates attempt and score in the exam. Here’s CFA Institute’s rationale behind this change:

“Research and our own experience indicate that the fourth answer option on multiple choice and item set exams is unnecessary to assess a candidate’s knowledge and skills. Three answer choices are sufficient and effective in discriminating between those candidates that possess the knowledge and skills and those that do not. As a result, we are changing the format of the multiple-choice and item set questions on CFA exams from four answer options to three.”
So, would it become easier to crack the exam, now that the candidates have fewer answer choices to consider?
Well, not really. The key thing to note here is that although candidates need to carefully manage their time to perform well on CFA exams, the CFA exams are not merely a test of time management skills. You need to have a certain level of mastery of the knowledge and skills to get through.
The probability of successful guessing on any single MCQ will increase. However, the probability that a candidate would be able to guess correctly enough times to pass the exam is very small. This is true irrespective of whether there are two, three, four or more choices. It is also at least theoretically possible that a candidate
with enough knowledge and skills to achieve a reasonably high score might achieve a higher score through successful guessing on just a few questions. It is important to note that there is not a fixed score that candidates need to achieve to pass a CFA exam. Standard setters evaluate the difficulty of each exam in making their minimum
pass score recommendation. Keep this in mind as you gear up the preparation for the exam and remember - “Work Hard At Working Smart”.
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FRM Coaching Delhi

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List of FRM Core Readings

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FRM Part I
Foundations of Risk Management
René Stulz, “Risk Management Failures: What are They and When Do They Happen?” Fisher College of Business Working Paper Series (Oct. 2008). Fisher College of Business Working Paper No. 2008-03-017.
GARP Code of Conduct
Valuation and Risk Models
“Principles for Sound Stress Testing Practices and Supervision” (Basel Committee on Banking Supervision Publication, May 2009)
FRM Part II
Credit Risk Measurement and Management
Adam Ashcroft and Til Schuermann, “Understanding the Securitization of Subprime Mortgage Credit” , Federal Reserve Bank of New York Staff Reports, no. 318 (March 2008).
Eduardo Canabarro and Darrell Duffie, “Measuring and Marking Counterparty Risk” in ALM of Financial Institutions, ed. Leo Tilman (London: Euromoney Institutional Investor, 2003).

Darrell Duffie, “Innovations in Credit Risk Transfer: Implications for Financial Stability” (July 2008) .
Studies on credit risk concentration: an overview of the issues and a synopsis of the results from the Research Task Force project” (Basel Committee on Banking Supervision Publication, November 2006).
Operational and Integrated Risk Management
Andrew Kuritzkes, Til Schuermann and Scott M. Weiner. “Risk Measurement, Risk Management and Capital Adequacy in Financial Conglomerates” , in Brookings-Wharton Papers on Financial Services Robert E. Litan and Richard Herring (eds) (Brookings Institutional Press, Washington, DC: 2003).
Brian Nocco and René Stulz, “Enterprise Risk Management: Theory and Practice” , Journal of Applied Corporate Finance 18, No. 4 (2006): 8-20.
Falko Aue and Michael Kalkbrener, “LDA at Work” Deutsche Bank White Paper, 2007.
Til Schuermann and Andrew Kuritzkes, “What We Know, Don’t Know and Can’t Know About Bank Risk: A View from the Trenches” , (March 2008).
“Principles for Sound Liquidity Risk Management and Supervision” (Basel Committee on Banking Supervision Publication, September 2008).
“Range of practices and issues in economic capital modeling” (Basel Committee on Banking Supervision Publication, March 2009)
Readings for Basel Reference
“Basel II: International Convergence of Capital Measurement and Capital Standards: A Revised Framework-Comprehensive Version” (Basel Committee on Banking Supervision Publication, June 2006).
“Supervisory guidance for assessing banks’ financial instrument fair value practices” (Basel Committee on Banking Supervision Publication, April 2009).
“Guidelines for computing capital for incremental risk in the trading book -final version” (Basel Committee on Banking Supervision Publication, July 2009).
“Revisions to the Basel II market risk framework -final version” (Basel Committee on Banking Supervision Publication, July 2009).
Risk Management and Investment Management
René Stulz, “Hedge Funds: Past, Present and Future.” Fisher College of Business Working Paper No. 2007-03-003; Charles A Dice Center WP No. 2007-3.
Manmohan Singh and James Aitken, “Deleveraging after Lehman — Evidence from Reduced Rehypothecation” , (March 2009).
Stephen Dimmock and William Gerken, “Finding Bernie Madoff: Detecting Fraud by Investment Managers” , (December 2009).
Current Issues in Financial Markets
Gary Gorton, “The Panic of 2007″ , (August 2008).
Raghuram Rajan, “Has Financial Development Made The World Riskier?” (September 2005).
Senior Supervisory Group, “Observations on Risk Management Practices during the Recent Market Turbulence,” (March 2008).
UBS, “Shareholder Report on UBS?s Write-Downs” , (April 2008).
Martin Hellwig, “Systemic Risk in the Financial Sector: An Analysis of the Subprime-Mortgage Financial Crisis” , (November 2008). MPI Collective Goods Preprint, No. 2008/43.
Carmen Reinhart and Kenneth Rogoff, “This Time is Different: A Panoramic View of Eight Centuries of Financial Crises” , (April 2008).
Darrell Duffie, “The Failure Mechanics of Dealer Banks” , (June 2009).

Pristine Careers
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List of FRM Core Readings

Pristine Careers
More than 250,000 Man hours of Quality Training
* One stop for Financial Trainings View Details
* Innovative Content Visualize FRM Diagnostic FRM
* Question Solving Sessions View Details
* Topic Expert Model Learn from the
* Masters of the Trade View Detail
* It is no wonder that 53% of our new students come from recommendation of old students


FRM Part I
Foundations of Risk Management
René Stulz, “Risk Management Failures: What are They and When Do They Happen?” Fisher College of Business Working Paper Series (Oct. 2008). Fisher College of Business Working Paper No. 2008-03-017.
GARP Code of Conduct
Valuation and Risk Models
“Principles for Sound Stress Testing Practices and Supervision” (Basel Committee on Banking Supervision Publication, May 2009)
FRM Part II
Credit Risk Measurement and Management
Adam Ashcroft and Til Schuermann, “Understanding the Securitization of Subprime Mortgage Credit” , Federal Reserve Bank of New York Staff Reports, no. 318 (March 2008).
Eduardo Canabarro and Darrell Duffie, “Measuring and Marking Counterparty Risk” in ALM of Financial Institutions, ed. Leo Tilman (London: Euromoney Institutional Investor, 2003).

Darrell Duffie, “Innovations in Credit Risk Transfer: Implications for Financial Stability” (July 2008) .
Studies on credit risk concentration: an overview of the issues and a synopsis of the results from the Research Task Force project” (Basel Committee on Banking Supervision Publication, November 2006).
Operational and Integrated Risk Management
Andrew Kuritzkes, Til Schuermann and Scott M. Weiner. “Risk Measurement, Risk Management and Capital Adequacy in Financial Conglomerates” , in Brookings-Wharton Papers on Financial Services Robert E. Litan and Richard Herring (eds) (Brookings Institutional Press, Washington, DC: 2003).
Brian Nocco and René Stulz, “Enterprise Risk Management: Theory and Practice” , Journal of Applied Corporate Finance 18, No. 4 (2006): 8-20.
Falko Aue and Michael Kalkbrener, “LDA at Work” Deutsche Bank White Paper, 2007.
Til Schuermann and Andrew Kuritzkes, “What We Know, Don’t Know and Can’t Know About Bank Risk: A View from the Trenches” , (March 2008).
“Principles for Sound Liquidity Risk Management and Supervision” (Basel Committee on Banking Supervision Publication, September 2008).
“Range of practices and issues in economic capital modeling” (Basel Committee on Banking Supervision Publication, March 2009)
Readings for Basel Reference
“Basel II: International Convergence of Capital Measurement and Capital Standards: A Revised Framework-Comprehensive Version” (Basel Committee on Banking Supervision Publication, June 2006).
“Supervisory guidance for assessing banks’ financial instrument fair value practices” (Basel Committee on Banking Supervision Publication, April 2009).
“Guidelines for computing capital for incremental risk in the trading book -final version” (Basel Committee on Banking Supervision Publication, July 2009).
“Revisions to the Basel II market risk framework -final version” (Basel Committee on Banking Supervision Publication, July 2009).
Risk Management and Investment Management
René Stulz, “Hedge Funds: Past, Present and Future.” Fisher College of Business Working Paper No. 2007-03-003; Charles A Dice Center WP No. 2007-3.
Manmohan Singh and James Aitken, “Deleveraging after Lehman — Evidence from Reduced Rehypothecation” , (March 2009).
Stephen Dimmock and William Gerken, “Finding Bernie Madoff: Detecting Fraud by Investment Managers” , (December 2009).
Current Issues in Financial Markets
Gary Gorton, “The Panic of 2007″ , (August 2008).
Raghuram Rajan, “Has Financial Development Made The World Riskier?” (September 2005).
Senior Supervisory Group, “Observations on Risk Management Practices during the Recent Market Turbulence,” (March 2008).
UBS, “Shareholder Report on UBS?s Write-Downs” , (April 2008).
Martin Hellwig, “Systemic Risk in the Financial Sector: An Analysis of the Subprime-Mortgage Financial Crisis” , (November 2008). MPI Collective Goods Preprint, No. 2008/43.
Carmen Reinhart and Kenneth Rogoff, “This Time is Different: A Panoramic View of Eight Centuries of Financial Crises” , (April 2008).
Darrell Duffie, “The Failure Mechanics of Dealer Banks” , (June 2009).

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PRM Preparation Support From Pristine Careers

• Can reduce your exam preparation time from 300 hrs to 150hrs.
• 14 days of Classroom Trainings for all the subjects
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• Free online classes for students who register for classroom trainings
• Free online Videos on difficult Topics, Solved Examples & Practice Exercises
• FRM Certified Faculty from IIT/IIM's with relevant experience

Pristine PRM 120 Hrs Classroom Training

• Can reduce your exam preparation time from 300 hrs to 150 hrs.
• 14 days of Classroom Trainings for all the subjects
• 30 hrs of Online Tests ( topic wise)- 1000 + questions
• Free online classes for students who register for classroom trainings
• Free online Videos on difficult Topics, Solved Examples & Practice Exercises
• FRM Certified Faculty from IIT/IIM's with relevant experience
• Training timings: Saturday 2pm to 7.30pm ; Sunday 10am to 3.30pm
• Fees: Fees Rs 14,950 or USD 495(Including Taxes)

Pristine PRM Comprehensive Web Tutorials

• For Students who want to prepare on their own
• A Comprehensive Study Material including Presentations (for all subjects)
• Topic-wise & Subject wise Online Tests ( 1000+ questions) and 2 Mock tests for each subject.
• Complete guidance on "How to prepare for the Exam"
• Fees: Rs. 5000 or USD 150 (Including Taxes), can be adjusted for PRM Classroom Trainings

* 20% discount for a group of 5 or more students

Pristine PRM Online Tests & Mock Tests

• For Students who require only Question papers
• Topic-wise & Subject wise Online Tests ( 1000+ questions) and 2 Mock tests for each subject.
• Fees: Rs 2,500 or USD 75 (Including Taxes), can be adjusted for PRM Classroom Trainings

* 20% discount for a group of 5 or more students

Unique benefits of the preparation support

PRM^® Exam Trainings

Pristine Careers - Official PRM Course Provider in India

Pristine Careers is the leader in Risk Management Training and is the only provider of training for PRM in India, which is one of the most prestigious Risk Management Certifications in the world. To view more details on Official Course Providers, click here...

Click to Download PRM Training Brochure

PRM Preparation Support From Pristine Careers

• Can reduce your exam preparation time from 300 hrs to 150hrs.
• 14 days of Classroom Trainings for all the subjects
• 30 hrs of Online Tests ( topic wise)- 1000 + questions
• Free online classes for students who register for classroom trainings
• Free online Videos on difficult Topics, Solved Examples & Practice Exercises
• FRM Certified Faculty from IIT/IIM's with relevant experience

Pristine PRM 120 Hrs Classroom Training

• Can reduce your exam preparation time from 300 hrs to 150 hrs.
• 14 days of Classroom Trainings for all the subjects
• 30 hrs of Online Tests ( topic wise)- 1000 + questions
• Free online classes for students who register for classroom trainings
• Free online Videos on difficult Topics, Solved Examples & Practice Exercises
• FRM Certified Faculty from IIT/IIM's with relevant experience
• Training timings: Saturday 2pm to 7.30pm ; Sunday 10am to 3.30pm
• Fees: Fees Rs 14,950 or USD 495(Including Taxes)

Pristine PRM Comprehensive Web Tutorials

• For Students who want to prepare on their own
• A Comprehensive Study Material including Presentations (for all subjects)
• Topic-wise & Subject wise Online Tests ( 1000+ questions) and 2 Mock tests for each subject.
• Complete guidance on "How to prepare for the Exam"
• Fees: Rs. 5000 or USD 150 (Including Taxes), can be adjusted for PRM Classroom Trainings

* 20% discount for a group of 5 or more students

Pristine PRM Online Tests & Mock Tests

• For Students who require only Question papers
• Topic-wise & Subject wise Online Tests ( 1000+ questions) and 2 Mock tests for each subject.
• Fees: Rs 2,500 or USD 75 (Including Taxes), can be adjusted for PRM Classroom Trainings

* 20% discount for a group of 5 or more students

Unique benefits of the preparation support

Options Trading Strategies

The simmering Sino-US relationships, paroxysms in European bond market and the domestic budget of this fiscal around the corner are the contributors of high volatility in NIFTY.

The latest fuel to burn the superficial bonhomie between the two super powers is the America’s decision to sell Taiwan $6 billion-worth of weaponry. This is playing an active role in bringing the confidence indexes to their all time lows.

Late last month the yield on 10-year government bonds issued by Greece vaulted to 7.1%, which is the highest since the country became EU member. This yield is 400bps more than that on German bunds, which are considered to be the safest investment in EU. The panic abated on 3-Feb, when the European Commission endorsed the Greek government’s plan to cut the deficit to 3% of GDP by 2012. The storm in Greece has compelled many sleepers like Portugal and Spain to wake-up and start preparing for the similar crises in domestic bonds.

Latest updates from Central Statistical Organization (CSO) has although updated the growth estimate to 7.2%, many are skeptical about the numbers because of the negative growth in the agriculture, thanks to the monsoon this year.

Traders of imminent I-banks have started getting the margin calls in their vanilla strategies. ABC Bank didn’t have any prior experience and exposure to the options. They want to enter in options trading and want to profit from the present condition of the Indian market.

All the six traders of the ABC Bank have different opinions on the importance and the outcome of the scenario. Depending on the view of the traders, we have to advice the best strategy for the novice traders of the ABC bank.

Case I:

Trader1: I think despite the bad numbers in agriculture by CSO, the good part is that overall Indian economy will grow at much higher rate (7.2%) than previously expected. I think the budget should be investor-friendly. If I talk about Sino-US relationships, it’s not breaking news. It had been going since 4^th Nov, ’09 the day Obama entered white-house.

You: Tell us something about EU bond market and your overall view in Indian context.

Trader1: According to me, EU bond market squall can be another crisis in the offing if not nipped in a week or so. This may affect Indian stock and bond market. Overall I would say I am conservatively bullish and conservatively bearish, but Congress’ investor-friendly budget as expected would lead the show.

You: From your feedback, the best strategy for you would be buy a call option, but as you are bearish because of EU bonds, I would suggest selling a call option at higher strike price. This strategy is also called Bull Spread.

Case II:

Trader2: My expectations are exactly opposite to what Trader1 thinks on the importance of the events.

You: This means that you think the probability of the EU bonds affecting Indian markets would be more than the impact of budget. For this outlook best suited strategy would be to sell call option at lower strike price and to buy a call option. Bear Spread

Case III:

Trader3: I am interested in short term options and for that period only possible outcome is the budget, which has equal chances of being a good or bad news for Indian investors. No matter what the outcome of the budget is going to be, Nifty has got to run. China-US relations and EU bonds are not sufficient factors to move Nifty.

You: Buy a call and buy a put at same strike price. Straddle

Case IV:

Trader4: My expectations are same as Trader3, but I don’t want to spend too much money upfront. Moreover the range boundaries which Nifty is going to break are higher than those expected by Trader3.

You: Buy call and put of different strike prices depending on your range boundaries. Strangle

Case V:

Trader5: I am interested in short term options and for that period only possible outcome is the budget, which has more chances of being good news for Indian investors. No matter what the outcome of the budget is going to be, Nifty has got to run. China-US relations and EU bonds are not sufficient factors to move Nifty. Overall Nifty is going to break the range boundary. There are 90% chances that the broken boundary is going to be the upper one.

You: If you are so much confident about the broken boundary to be the upper boundary, go for Strap strategy. Strap involves buying 2 call options and 1 put option at same strike price.

Case VI:

Trader6: Every year we get a new budget, few years back there were tensions between Middle East and US, now it’s between China and US, few months ago Dubai-world made a new about sovereign debt default, now it’s Greece or any country for that matter. All these so called big news are not going to be very significant unless our market obeys strong market efficient hypothesis. There’s so much of the positive and negative information that it cancels out in the end, only thing that remains is the irrationality and the psychology of the investor. So I think Nifty is going to trade between a range unlike a biotech company about to launch a new drug. So my expectations are that the market would be range bound and don’t want to spend too much upfront.

You: Buy two calls at different strike prices and sell two calls at intermediate strike prices. Butterfly spread.

Download the the excel file:

Related posts:

1. What are Exotic Options / Vanilla Options ? (20.719) What are Exotic Options/ Vanilla Options ?...
2. Effective Asset allocation Techniques (5.946) Effective Asset allocation Techniques...

Options Trading Strategies

The simmering Sino-US relationships, paroxysms in European bond market and the domestic budget of this fiscal around the corner are the contributors of high volatility in NIFTY.

The latest fuel to burn the superficial bonhomie between the two super powers is the America’s decision to sell Taiwan $6 billion-worth of weaponry. This is playing an active role in bringing the confidence indexes to their all time lows.

Late last month the yield on 10-year government bonds issued by Greece vaulted to 7.1%, which is the highest since the country became EU member. This yield is 400bps more than that on German bunds, which are considered to be the safest investment in EU. The panic abated on 3-Feb, when the European Commission endorsed the Greek government’s plan to cut the deficit to 3% of GDP by 2012. The storm in Greece has compelled many sleepers like Portugal and Spain to wake-up and start preparing for the similar crises in domestic bonds.

Latest updates from Central Statistical Organization (CSO) has although updated the growth estimate to 7.2%, many are skeptical about the numbers because of the negative growth in the agriculture, thanks to the monsoon this year.

Traders of imminent I-banks have started getting the margin calls in their vanilla strategies. ABC Bank didn’t have any prior experience and exposure to the options. They want to enter in options trading and want to profit from the present condition of the Indian market.

All the six traders of the ABC Bank have different opinions on the importance and the outcome of the scenario. Depending on the view of the traders, we have to advice the best strategy for the novice traders of the ABC bank.

Case I:

Trader1: I think despite the bad numbers in agriculture by CSO, the good part is that overall Indian economy will grow at much higher rate (7.2%) than previously expected. I think the budget should be investor-friendly. If I talk about Sino-US relationships, it’s not breaking news. It had been going since 4^th Nov, ’09 the day Obama entered white-house.

You: Tell us something about EU bond market and your overall view in Indian context.

Trader1: According to me, EU bond market squall can be another crisis in the offing if not nipped in a week or so. This may affect Indian stock and bond market. Overall I would say I am conservatively bullish and conservatively bearish, but Congress’ investor-friendly budget as expected would lead the show.

You: From your feedback, the best strategy for you would be buy a call option, but as you are bearish because of EU bonds, I would suggest selling a call option at higher strike price. This strategy is also called Bull Spread.

Case II:

Trader2: My expectations are exactly opposite to what Trader1 thinks on the importance of the events.

You: This means that you think the probability of the EU bonds affecting Indian markets would be more than the impact of budget. For this outlook best suited strategy would be to sell call option at lower strike price and to buy a call option. Bear Spread

Case III:

Trader3: I am interested in short term options and for that period only possible outcome is the budget, which has equal chances of being a good or bad news for Indian investors. No matter what the outcome of the budget is going to be, Nifty has got to run. China-US relations and EU bonds are not sufficient factors to move Nifty.

You: Buy a call and buy a put at same strike price. Straddle

Case IV:

Trader4: My expectations are same as Trader3, but I don’t want to spend too much money upfront. Moreover the range boundaries which Nifty is going to break are higher than those expected by Trader3.

You: Buy call and put of different strike prices depending on your range boundaries. Strangle

Case V:

Trader5: I am interested in short term options and for that period only possible outcome is the budget, which has more chances of being good news for Indian investors. No matter what the outcome of the budget is going to be, Nifty has got to run. China-US relations and EU bonds are not sufficient factors to move Nifty. Overall Nifty is going to break the range boundary. There are 90% chances that the broken boundary is going to be the upper one.

You: If you are so much confident about the broken boundary to be the upper boundary, go for Strap strategy. Strap involves buying 2 call options and 1 put option at same strike price.

Case VI:

Trader6: Every year we get a new budget, few years back there were tensions between Middle East and US, now it’s between China and US, few months ago Dubai-world made a new about sovereign debt default, now it’s Greece or any country for that matter. All these so called big news are not going to be very significant unless our market obeys strong market efficient hypothesis. There’s so much of the positive and negative information that it cancels out in the end, only thing that remains is the irrationality and the psychology of the investor. So I think Nifty is going to trade between a range unlike a biotech company about to launch a new drug. So my expectations are that the market would be range bound and don’t want to spend too much upfront.

You: Buy two calls at different strike prices and sell two calls at intermediate strike prices. Butterfly spread.

Download the the excel file:

Related posts:

1. What are Exotic Options / Vanilla Options ? (20.719) What are Exotic Options/ Vanilla Options ?...
2. Effective Asset allocation Techniques (5.946) Effective Asset allocation Techniques...

• See more related articles and free preparation stuff at: The Finance Blog - CFA PRM FRM Certifications

Effective Asset allocation Techniques

 

Asset allocation is the strategy used in choosing between the various kinds of possible investments, in other words,
the strategy used in choosing in what asset classes such as stocks and bonds one wants to invest.
A large part of financial planning consists of finding an asset allocation that is appropriate for a given person in
terms of their appetite for and ability to shoulder risk.
Examples of asset classes:
* Cash ( money market accounts)
* Bonds: investment grade or junk (high yield); government or corporate; short-term, intermediate, long-term; domestic, foreign, emerging markets
* Stocks: value or growth; large-cap versus small-cap; domestic, foreign, emerging markets
* Real estate
* Foreign currency
* Natural resources
* Precious metals
* Luxury collectibles such as art, fine wine and automobiles
* Real Estate Investment Trusts (REITs)
* International Investments: Foreign or emerging markets
* Life settlements
What are the various Asset-Allocation Strategies ?

Dynamic Asset Allocation
One of the popular allocation schemes is dynamic asset allocation, with which one actively moderates the mix of assets as markets soar and falter. With this strategy one sells assets which are losing value and buys those assets which are gaining. This strategy can diametrically opposite to a constant-weighting scheme.
Strategic Asset Allocation
Strategic asset allocation is a strategy that establishes and sticks to what is called a ‘Base policy mix’. This is a proportional combination of assets based on expected rates for class of asset.
For instance, if the statistical data shows that stock-market has historically returned 20% per year and bonds have returned 10% per year,
a mix of 50% stocks and 50% bonds would be expected to return 15% (= 0.5 * 20 + 0.5 * 10) per year.
Constant-Weighting Asset Allocation
The Strategic asset allocation usually employs a Buy-and-Hold strategy, even though the variations in the actual worth of the assets cause a dramatic change in the initially established policy mix. For this reason, one might prefer to use a constant-weighting approach for asset allocation. In this scheme, one continually rebalances the portfolio.
For instance, if asset A were declining in value, one would purchase more of that asset, and if that asset value increases, then one would sell it.
There are no rigid rules for the frequency of portfolio rebalancing under strategic/constant-weighting asset allocation techniques. Although, a widely accepted norm is that the portfolio must be rebalanced to its original mix when any given allocated asset varies more than 5% in value.
Tactical Asset Allocation
Over the long run, a strategic asset allocation strategy does not allow much flexibility. So, one may find it useful to engage in short-term, tactical deviations from the mix in order to capitalize on the out-of-the-line
investment opportunities. This flexibility imparts a degree of of market timing to one’s portfolio, letting one participate in economic conditions that are more suited to a particular asset class.
So, in some sense, Tactical asset allocation can be described as a moderately active strategy, since the overall strategic asset mix is returned to when desired short-term profits are achieved.


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   More than 250,000 Man hours of Quality Training
   * One stop for Financial Trainings View Details
   * Innovative Content Visualize FRM Diagnostic FRM
   * Question Solving Sessions View Details
   * Topic Expert Model Learn from the
   * Masters of the Trade View Detail
   * It is no wonder that 53%  of our new students come  from recommendation of old  students